UPDATE: An SAI source confirms that Yahoo and Google have reached a search deal. The source believes that the deal will start small and ratchet up over time depending on its success. This makes sense, as a small deal will attract far less regulatory scrutiny. It will also contribute less to Yahoo's bottom line. The deal may not be announced this afternoon.

The deal unraveled last weekend, at a meeting between Yahoo directors and Microsoft representatives. At the meeting, Microsoft made it clear that it was no longer wanted to pursue a larger deal, the people [familiar with the matter] said...

The company now plans to pursue a search advertising pact with Google, a deal that could be announced as early as today. Details of the plan weren't immediately clear but the two companies have been discussing a deal under which Yahoo would outsource its search advertising to Google.

Yahoo statement below. Meanwhile, now that Microsoft is history, Yahoo and Google are reportedly close to a search partnership.

No way is it going to generate the incremental $1 billion of EBITDA for Yahoo some analysts have talked about. This is especially true if the deal will start small, as our source suggests.

A smart deal--one structured to pass muster with the regulators--would not eliminate Yahoo's Panama and would only cover a fraction of Yahoo's overall search queries. This might deliver $200-$300 of annual EBITDA to Yahoo.

A deal that excluded Microsoft would instantly render Microsoft's search business DOA.

A deal that included Microsoft--an open bidding system--would be more likely to sail through regulator hell, but it still wouldn't save Microsoft's search business (which depends on query share, not monetization).

Interestingly, Yahoo's stock is cratering on this news. This could mean that:

the market hasn't picked up on the rumor yet,

the deal may not actually be that meaningful,

Carl Icahn is already dumping Yahoo stock,

someone else is dumping Yahoo stock because what is propping up the stock in the mid-$20s is hope for a Microsoft deal.

Yahoo is doing the search deal with Google because all hope of a Microsoft deal is lost.

Would a Google-Yahoo search partnership eliminate the possibility of a Microsoft takeout? Very unlikely. In fact, it might even make it more likely. It would not be in Yahoo's interest to enter into any transaction that would prevent Microsoft or any other company from buying it, especially because Microsoft might still argue to regulators that the only reason Google and Yahoo are doing the deal is to screw Microsoft.

UPDATE: TechCrunch adds that Yahoo will announce the departure of another big senior executive today..and not Jeff Weiner. This could be hitting the stock, too. Not clear if this the whole announcement at 1:30, or whether the company will announce both the exec departure AND the search deal. (Or, for that matter, either). An SAI reader says the executive is a tech exec with little responsibility.

Yahoo! Inc., a leading global Internet company, today announced that discussions with Microsoft regarding a potential transaction -- whether for an acquisition of all of Yahoo! or a partial acquisition -- have concluded. The conclusion of discussions follows numerous meetings and conversations with Microsoft regarding a number of transaction alternatives, including a meeting between Yahoo! and Microsoft on June 8th in which Chairman Roy Bostock and other independent Board members from Yahoo! participated. At that meeting, Microsoft representatives stated unequivocally that Microsoft is not interested in pursuing an acquisition of all of Yahoo!, even at the price range it had previously suggested.

With respect to an acquisition of Yahoo!'s search business alone that Microsoft had proposed, Yahoo!'s Board of Directors has determined, after careful evaluation, that such a transaction would not be consistent with the company's view of the converging search and display marketplaces, would leave the company without an independent search business that it views as critical to its strategic future and would not be in the best interests of Yahoo! stockholders.